Slippage intuition

Slippage is an inefficiency of CPMM that results in slightly (or significantly) worse odds when betting. For example in perfect market with outcome probabilities split equally, if you stake \$100 for "yes" and "yes" wins then you receive \$200 (\$100 stake + \$100 profit). In case of CPMM with \$1000 liquidity you will receive ~\$191 payout and you lose \$9 to the market inefficiency. In other words your odds are not 1:1 but ~0.91:1. This difference of \$9 is called slippage.

In our simulations we define slippage as a fraction of reward lost slippage = (actual token price - marginal token price) / actual token price

So for example slippage 0.03 (3%) means reduction of possible reward by 3% due to inefficient market.

Slippage has negative effect on trading.

  1. Slippage prevents large bets when liquidity is low. You will not bet \$1000 if you lose \$100 to inefficiencies
  2. Slippage impacts much more markets that have large difference of odds. 1:1 is the best case. 9:1 has large slippage (inefficiency) when buying yes of the option

Slippage is a function of (bet amount / liquidity amount)

Slippage is function of bet amount / liquidity amount. For example we have the same slippage for bet amount 100 with liquidity amount 1000 and bet amount 1000 with liquidity 10000.

Example above assumes 1:1 yes:no odds

Zoom in at realistic ranges of slippage (up to 2%).

We have 1% of slippage when bet is 2% of liquidity and 2% of slippage when bet is 4.18% of liquidity. If we assume that 1% of slippage is realistic maximum we need \$1000 liquidity to have \$20 bets or \$50,000 liquidity to have \$1000 bets. With 1% slippage trader loses \$10 out of \$1000 bet

option with higher odds (higher reward) has bigger slippage

With odds 1:1 we have 0.5% slippage for both outcomes, with yes:no odds 1:8 we have 2.5% slippage for NO which is quite large (and very small slippage for YES). However NO option is much more interesting to gamblers as possible payout is higher!

In scenario below we start at 1:1 odds and traders bet on YES decreasing the YES odds and increasing the NO odds. Observe slippage value changing!

acceptable slippage maps

Slippage will be acceptable for betters only in certain bet sizes (as fraction of liquidity) and odds. For high odds slippage is quickly becoming considerable. Two results

  1. you need less liquidity for equal markets (1:1), those markets are more efficient and LP takes less risks
  2. the less probable option (higher odds) has considerable more slippage. so in turn it will be even less popular and slippage will increase even more. this property of cpmm is not nice